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Clawback Provision

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What is a Clawback Provision? 

A clawback provision is a contractual clause that allows an employer or investor to reclaim previously distributed compensation or bonuses from an employee or executive. This provision is typically included in employment contracts, bonus agreements, and investment terms to protect against misconduct, underperformance, or financial restatements.

How It Works:

  • Trigger Events: Common triggers include financial restatements, misconduct, or breach of contract.
  • Reclamation: The employer or investor can demand the return of funds or equity previously granted.
  • Purpose: Ensures accountability and protects the financial interests of the company or investors.

Advantages: 

Clawback provisions enhance accountability by ensuring that employees and executives are incentivized to act in the best interest of the company. They provide a safety net for companies to recover funds in case of financial discrepancies or misconduct, thus protecting shareholders and investors.

Disadvantages: 

These provisions can sometimes create tension and reduce trust between employees and employers. They may also lead to legal disputes over the interpretation and enforcement of the provision, potentially resulting in costly litigation.

Example: 

A prominent example of a clawback provision in action is the case of Wells Fargo. In 2016, following a scandal involving unauthorized account openings, the bank invoked clawback provisions to recover $75 million from two former executives, CEO John Stumpf and community banking head Carrie Tolstedt, as part of the accountability measures.

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Related Terms

Adjusted EBITDA

Adjusted EBITDA (Earnings Before Interest, Taxes, Depreciation, and Amortization) is a financial metric used to assess a company's operational performance. It modifies the standard EBITDA by excluding non-recurring, irregular, or non-cash expenses to provide a more accurate reflection of ongoing profitability.

Angel Investors

Angel investors are affluent individuals who provide capital to startups or early-stage companies in exchange for equity ownership or convertible debt. These investors often offer not only financial support but also valuable business expertise and mentorship.

Anti-Dilution Provision

An anti-dilution provision is a clause in an investment agreement that protects an investor from dilution of their ownership percentage in the event that new shares are issued at a price lower than the investor originally paid. It is commonly included in venture capital and private equity agreements.

Bootstrapping

Bootstrapping in business refers to starting and growing a company using personal finances or the company’s operating revenues, rather than relying on external funding or venture capital. Entrepreneurs use their own resources and reinvest profits from initial sales to fund further growth, emphasizing financial independence and careful cash flow management.

Bridge Loan

A bridge loan is a short-term loan used to meet immediate financing needs while waiting for more permanent funding. It serves as a temporary solution to bridge the gap between the need for funds and the availability of long-term financing.

Cap Table

A Cap Table, or Capitalization Table, is a detailed spreadsheet or document that outlines the equity ownership, types of shares, and ownership percentages of a company. It includes information on founders, investors, and employees, as well as the dilution of shares over time through various funding rounds and option grants.

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